What is it about?

Free cash flows are considered sources of agency problems; that is, catalysts for wasteful spending or investments within corporations by professional managers or entrepreneurs. In this study, I find extreme realizations of free cash flows can be associated with productivity losses independent of agency problems. My finding that productivity losses induced by free cash flows occur within contexts characterized by relatively high marginal productivity provides evidence that productivity losses are not derived from relatively low ability.

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Why is it important?

This study provides evidence which demonstrates free cash flows need not be sources of agency problems. Empirical evidence that productivity losses derived from free cash flows are not replicable using capital structure choices or the marginal cost of debt further demonstrates free cash flows can affect productivity independent of market frictions, imperfections, or risk profiles. Coupled with evidence that moderate levels of free cash flows are beneficial for productivity, in aggregate study findings question the traditional assumption and findings that free cash flows are sources of agency problems.


My findings provide empirical support for conclusions in Harvey, Lins, and Roper (2004) that debt is most beneficial in situations within which agency problems are extremely severe. This implies studies of free cash flows within the context of inflows of new debt capital can help shed additional light on the performance implications of free cash flows and the extent to which free cash flows are related to or can be decoupled from agency problems.

Dr Oghenovo A Obrimah
Fisk University

Read the Original

This page is a summary of: Farm Data, Agency Problems, and Free Cash Flow Theory, SSRN Electronic Journal, January 2015, Elsevier,
DOI: 10.2139/ssrn.2653959.
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